The Second Six: Ready to Step Up?

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Only a decade ago, an article that mentioned the largest public accounting firms in the United States would most likely refer simply to the Big 8. Today, after several mergers and one very high-profile departure, we’re down to the Big 4.

Some of the Big 8 may be not only gone, but forgotten. (Sure you can name them all? Give yourself until the end of this article, where you’ll find a complete list). But now, other names are growing in renown:

These firms, which we call the Second Six, are the largest of what are often referred to as the Group B accounting firms. They’re a distinct size down from PricewaterhouseCoopers, Deloitte & Touche, Ernst & Young, and KPMG, all of which have annual revenues exceeding $3 billion and professional staffs more than 10,000 strong. By comparison, Grant Thornton (number 5 on the top 100 list, and thus the largest of the Second Six) had annual revenues of $433 million for the fiscal year ending last June; its professional staff numbers about 1,900.

Are any of the Second Six in position to move up in the rankings?

Pick Up the Pieces

Andersen’s connection with Enron, and its consequent bankruptcy filing, left a taint on the entire industry, but at least it provided a direct benefit to those firms that now serve former Andersen clients. Many of the larger clients fled to one of the remaining Big 4 firms, but the Group B firms saw their share of new business, too. Doug Bennett, director of accounting and auditing at Springfield, Missouri-based BKD (number 7 on the top 100 list), says that after “the Andersen filing we saw opportunities for new business, and we picked up a few companies,” some of which were “just too small for the Big 4.”

A bigger boon to the Group B firms — at the expense of the Big 4 — is the Sarbanes-Oxley Act of 2002. Sarbanes-Oxley enumerates many prohibited activities that auditors cannot perform for their audit clients. For Crowe, Chizek and Co. (number 8), those restrictions have provided “opportunity in areas where the Big 4 are conflicted from doing work,” according to CEO Mark Hildebrand. One of the first accountancies to offer IT consulting services, Crowe Chizek is now picking up other consulting work from Big 4-audited companies being forced to seek those services elsewhere — “things like risk management, systems, tax work, and internal audit,” says Hildebrand.

In addition to Big 4 hand-me-downs, Sarbanes-Oxley also entails more work for Group B firms on the audit contracts they already have; how much more is the question. Only last month the Securities and Exchange Commission adopted the final rules on auditor independence to fulfill requirements of Sarbanes-Oxley. And while Hildebrand is “certainly seeing some companies responding very quickly,” many smaller companies — that is, the clients of the Group B firms — are taking a more deliberate approach.

“The big companies, like the Pfizers and the Intels, have already started implementing [Sarbanes-Oxley], just to be in the forefront,” says Amar Budarapu, chairman of the U.S. securities practice group at law firm Baker & McKenzie. “For a Fortune 100 firm, that’s not that big a deal.” But Budarapu adds that many smaller companies, “with legal staffs of two or three people,” are taking a wait-and-see approach until the dust settles.

Squeeze the Clients?

When those smaller companies can wait no longer, what will they see? “I expect audit fees to go up 25 to 30 percent,” said Mike Starr, the U.S. managing partner for strategic services at Grant Thornton (number 5). But the pass-alongs initiated by Sarbanes-Oxley may be only the beginning.

The same professional and ethical questions that inspired Sarbanes-Oxley, and that dogged Andersen out of existence, have brought all accounting firms under “significant scrutiny,” says Starr. Those firms are themselves learning that one of their key cost components, liability insurance, may be in for a steep increase. Those costs “have gone up over 50 percent in some cases,” says Starr; according to Crowe Chizek’s Hildebrand, they “could easily triple.”

“What concerns me,” says Hildebrand, “is the cost of compliance to these medium-sized and smaller companies.” According to BKD’s Bennett, the industry is “looking at 50 to 75 percent increases and possible limits on the amounts of coverage.” Bennett, whose firm serves companies with annual revenues under $100 million, adds that “what gets passed to clients ultimately” is still unclear.

These increases, of course, have more impact on smaller companies. “It’s just ridiculous” that simply because you’re a public company, however small, “you have to bear the same costs and burdens as a Fortune 100 company,” says John Clary, CEO of Monrovia, California-based Clary Corp. One way to lighten the load, affirms Clary, is to go private.

How many executives at smaller companies will start seeing things the way Clary does? (See “Same Straw, Smaller Back.”) If new regulations and poor returns drive many smaller companies from the public markets, Group B firms may end up losing as much business as they gain. But even more tellingly, as Grant Thornton’s Starr observes, “we as a profession have lost the public trust.” Until the public regains that confidence, liability insurance and burgeoning regulations will remain troublesome, and the Second Six will find it difficult to step out of the second rank.